structure of the balance sheet and statement of cash flows revsine/collins/johnson/mittelstaedt:...

Structure of the Balance Sheet and Statement of Cash

Flows

Revsine/Collins/Johnson/Mittelstaedt: Chapter 4

McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Learning objectives

1. How balance sheet accounts are measured and classified.

2. How balance sheet information is used.

3. Balance sheet terminology and format outside the U.S.

4. How footnotes aid your understanding of the firm’s accounting policies, subsequent events, and related-party transactions.

5. How successive balance sheet and the income statement can be used to identify cash inflows and outflows.

6. How the cash flow statements can be used to explain changes in successive balance sheets.

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Learning objectivesConcluded

7. The distinction between operating, investing, and financing sources and uses of cash.

8. How changes in current asset and current liability accounts can be used to compute “cash flows from operations” from accrual earnings.

9. Key changes under the FASB/IASB proposed exposure draft on financial statement presentation.

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Elements of the balance sheet

• Probable future economic benefits• Obtained from past transactions or events

• Probable future sacrifices of economic benefits• Arising from present obligations• To transfer assets or provide services in the future• As a result of past transactions or events

• The residual interest in net assets.

ASSETS LIABILITIES EQUITY= +

How the money is invested Where the money came from

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Balance sheet information

LIABILITIES+

EQUITY

ASSETS

Rates of return

Capital structure

Liquidity

Solvency

Flexibility

ROA and ROCE

Debt vs. Equity

Cash conversion

Ability to pay debt

Operating and financial

Helpsassess

Balance Sheet

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Balance sheet measurement conventions

LIABILITIES+

EQUITY

ASSETS

Historical cost

Current cost (fair value)

Net realizable value

Discounted present value

Measurementmethods

Balance Sheet

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Balance sheet classification:Overview

• Current assets• Property, plant and equipment• Investments• Other assets

• Current liabilities• Long-term debt• Other liabilities

• Preferred and common stock• Additional paid-in capital• Retained earnings

ASSETS LIABILITIES EQUITY= +

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Balance sheet presentation:International differences

Current Assets

Long-lived Assets

Current Liabilities

Non-current Liabilities

Stockholders’ Equity

Fixed Assets

Current Assets

Current Liabilities

Non-current Liabilities

Capital Employed

U.S. Format: U.K. Format:

+

=

+

+

+

-

-

=

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Financial statement footnotes

Footnotes are an integral part of companies’ financial reports.

These “notes” help users better understand and interpret the numbers presented in the body of the financial statements.

Three important notes:1. Summary of significant accounting policies.2. Subsequent event disclosures.3. Related party transactions

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Statement of cash flows

Explains why a firm’s cash position changed between successive balance sheet dates. Here’s a balance sheet equation:Cash Non-cash assets Stockholders’ equityLiabilities+ = +

Cash Non-cash assetsLiabilities= +- Stockholder’s equity

ΔCash Δ Stockholders’ equity= +

At the same time, it explains why non-cash assets, liabilities, and stockholders’ equity have changed.

Δ Non-cash assetsΔ Liabilities -

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Cash flow statement format

Operating Activities

Investing Activities

Financing Activities

Δ Cash

Cash inflows and outflows from transactions and events that affect operating income

Cash inflows and outflows from loaning money to others, investing in securities, or in assets (e.g., equipment) used to produce goods and services.

Cash inflows and outflows from borrowing money, selling stock, and paying dividends

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Deriving cash flows from operations:Indirect approach

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Deriving cash flow information:Overview

BeginningBalance sheet

EndingBalance sheet

Incomestatement

Cash flowstatement

You can always derive any one financial statement from information available in the other three statements.

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Global Vantage PointThe proposed Exposure Draft issue by the FASB and the IASB recommends that

the statement of financial position and statement of cash flows be broken down into the distinct sections, categories, and subcategories shown in Exhibit 4.15.

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Summary

1. The balance sheet shows the assets owned by a company at a given point in time, and how those assets are financed (debt vs. equity).

2. Be alert for differences in balance sheet measurement bases, account titles, and statement format.

3. Financial statement footnotes provide important information.

4. The cash flow statement shows the change in cash for a given period, broken down into operating, investing, and financing activities.

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Summary concluded

5. Changes in certain balance sheet accounts help explain why operating cash flows differ from accrual income.

6. Conversely, the cash flow statement helps to explain changes in balance sheet accounts

7. T-accounts are a useful analytical device for deriving cash flow and accrual income information from successive balance sheets

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